Supreme Court Blocks Suits by Defrauded Investors The Supreme Court gives the business community a major victory. By a 5-3 vote, the justices block almost all efforts by investors to recover losses from secondary players in schemes to defraud stockholders. The ramifications involve suits like the one brought by Enron investors.
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Supreme Court Blocks Suits by Defrauded Investors

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Supreme Court Blocks Suits by Defrauded Investors

Law

Supreme Court Blocks Suits by Defrauded Investors

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RENEE MONTAGNE, host:

The business community has received a major victory from the Supreme Court - a ruling that will likely put an end to many fraud cases brought by investors. By a five-to-three vote yesterday, the justices blocked almost all efforts by investors to recover losses from those who played a secondary role in schemes to defraud stockholders.

NPR legal affairs correspondent Nina Totenberg explains.

NINA TOTENBERG: The ramifications of yesterday's ruling are in the billions and involve suits like the one brought by Enron investors against banks that are accused of helping Enron conceal its perilous financial condition. The actual case decided by the court involves a cable company named Charter Communications.

The SEC said Charter engaged in sham transactions with two of its cable box suppliers. Using backdated documents, the suppliers helped Charter conceal a $20-million cash shortfall on its balance sheet. When Charter's day of reckoning finally came, the losing investors sued not just Charter but the cable box suppliers to recover damages. The investors claimed that the suppliers, as knowing enablers, were liable too.

To the business community, this theory of so-called scheme liability was terrifying. John Engler is president of the National Association of Manufacturers.

Mr. JOHN ENGLER (President, National Association of Manufacturers): If you start to bootstrap liability that way, I mean, the fear was where does this end?

TOTENBERG: The Bush administration backed the business community in a do-or-die test case before the Supreme Court, while the Securities and Exchange Commission, 32 states and investors including pension funds backed those claiming secondary participants in a fraud scheme are liable.

The Supreme Court sided with the business community. Writing for the five justice majority, Justice Anthony Kennedy said that Congress did not authorize such investor lawsuits against secondary players in a securities fraud case unless it could be shown that the secondary players themselves filed misleading financial reports or made erroneous public statements on which investors relied. In this case, said Justice Kennedy, since no member of the public knew about the cable box suppliers' deceptive acts, the investors didn't rely on them for information and the suppliers aren't liable. The SEC, he said, can punish the suppliers but investors can't sue to recover damages.

Christopher Patti represents the University of California, one of the institutional investors suing secondary players in the Enron case.

Mr. CHRISTOPHER PATTI (University of California's Lawyer): This does shut the door pretty firmly on most of these claims, but perhaps not all of them.

TOTENBERG: Patti contends that the Enron suits may survive because they are mainly against investment banks, which he says were directly counseling investors that Enron was a good stock while, at the same time, designing schemes to cover up the company's insolvency.

Most observers, even one sympathetic to the investors, think that yesterday's Supreme Court ruling will doom even the Enron suit. Ohio Attorney General Marc Dann, a Democrat, joined with the Republican Texas attorney general in the Supreme Court on behalf of investors. He compares yesterday's decision to a nonsensical rule on bank robbery.

Attorney General MARC DANN (Democrat, Ohio): You could plan the bank robbery and drive the getaway car, but if you don't go in and hold the gun to the teller, then you're not liable in a civil fraud suit. That doesn't make any sense.

TOTENBERG: Dann says the only way to hold secondary actors in security fraud accountable to investors now is to amend the federal securities law to expressly allow such suits.

The chairman of the House Financial Services Committee, Barney Frank, says he won't waste time on such an effort as long as George Bush is president because Mr. Bush would almost certainly veto the bill.

Nina Totenberg, NPR News, Washington.

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